December 1, 2009

Better than Junk  barely

Here's a round-up of news stories reporting on Moody's assigning of a Baa3 rating to Bruce Ratner's arena debt, including some must-read explanations from Field of Schemes, NY Fiscal Watch, and others. Eliot Brown of the New York Observer is also reporting that Standard & Poor's has assigned the arena debt a BBB- rating, its proprietary shorthand for one step above junk.

Another shoe drops for the Atlantic Yards arena project: Bond rating agency Moody's has given an investment-grade rating to the bonds for the Nets' planned Brooklyn arena. It looks like Nets owner Bruce Ratner paid a high price for the rating, though, cutting the amount of tax-free bonds from $600 million to $500 million, and accepting a rating of Baa3, Moody's lowest level below junk bonds.

The next question is what this means for the bonds' interest rate, and the team's bottom line — each added percentage point of new interest will cost the Nets owners $5 million a year — something that could be answered when the Empire State Development Corporation makes its initial bond offering, as soon as tomorrow. The lowered amount of bonds also means a growing funding gap that must be filled by Ratner and his soon-to-be partner Mikhail Prokhorov: already at $100 million or so, it's now looking closer to $300 million. Prokhorov is a pretty rich guy, and clearly he stands to get lots of intangible publicity benefits from entering the NBA owner's club, but you still have to wonder how much cash he (or Ratner) will be willing to throw at this deal before the investment starts to look like a money pit.

If nothing else, this could get interesting once the inevitable cost overruns show up. The ESDC has said it has "no expectation" of issuing additional public bonds for the project, but admitted it's possible. Paging Richard Brodsky!

Atlantic Yards slipped in just above junk bond status today, when Moody's gave the project an Baa3 rating, the lowest rung of investment-grade bonds.

That's probably not as high as Bruce Ratner had hoped, but given the uncertainty surrounding the long-stalled development, it's better than it could have been. Mr. Ratner now has exactly one month to sell $500 million dollars in bonds if he wants to qualify for an I.R.S. deadline on the tax-free debt, which has long been seen as the last significant hurdle facing the project--though there are at least three outstanding lawsuits that could still derail it.

Backers of the Atlantic Yards project scored victories in court and on the bond market on Tuesday, further improving the chances of the New Jersey Nets moving to Brooklyn as soon as 2012.

The site of the proposed Atlantic Yards mega-development project in Brooklyn.
The New York Court of Appeals — which last week affirmed the right of the state to seize land on the project footprint via eminent domain — on Tuesday denied Develop Don’t Destroy Brooklyn’s request that the court review whether developers prepared a proper environmental impact statement.

Moody’s Investors Service, meanwhile, rated $500 million worth of bonds for Atlantic Yards at Baa3, according to the Bond Buyer. That grade is just high enough to avoid “junk” status, making them instead “investment grade.” The distinction is expected to make the bonds far more appealing to institutional investors.

This does not appear to be all of what Mr. Ratner had hoped. Last week, a state development agency said it expected $600 million in tax-free bonds, which itself was lower than executives had initially said they wanted (the arena's costs have been estimated between $800 million and $900 million). The less there is in tax-free bonds used to finance the project, the more expensive it gets for the development firm, Forest City Ratner, which has been scrambling to cut costs on the project for over a year.

The next (and most important) step is to actually sell the bonds to investors in the next couple of weeks. The bonds must be sold and a set of other loose ends tied up before the end of the month in order to qualify for an Internal Revenue Service deadline on the tax-free debt.

In its report on the bonds, Moody's laid out a number of notable risks with the project: the fact that the team is relocating to a new location, that the finances of the team are poor (more than $70 million in pre-tax losses a year, according to SEC filings made by Forest City), "uncertain demand for premium seating," and uncertainties over sponsorships, other events and ticket sales. Sports facilities traditionally take in the bulk of their revenue from a small percentage of seats and luxury boxes, meaning that the ability to sign up corporations to fill the luxury seats will be integral to making the arena a financial success.
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Standard & Poor's is out with their rating, which, like Moody's, is the lowest investment grade rating: BBB-. This is the rating that Forest City's underwriter, Goldman Sachs, had been shooting to hit, as the junk bond market would presumably be much more expensive.

The S&P analysis highlights similar positives (a strong structure given the PILOT payments; expectation of on-budget construction, as the contractor is apparently responsible for cost overruns; strong liquidity) and negatives (uncertain demand; potential overcapacity; and "potential reduction in the annual PILOT payments.")

The rating for the arena, called the Barclays Center, is Baa3, the lowest investment-grade rating available.

And Atlantic Yards largely got the rating on the strength of New York City taxpayers taking a big risk.

The mechanics of the financing aren’t that difficult. A subsidiary of Albany’s Empire State Development Corporation, the Brooklyn Arena Local Development Corporation (BALDC), will own the arena.

ArenaCo, a company owned in turn by developer Bruce Ratner and his partner, Russian billionaire Mikhail Prohkorov, will make payments in lieu of taxes (PILOTs) to BALDC in return for the long-term right to use the arena.

In turn, BALDC will turn those PILOTs over to the PILOT trustee, which will then use the funds to pay off the debt.

The PILOTS, and thus the bonds, depend on revenues from the arena for payment: “premium seating licenses and sales, sponsorship agreements, … concession revenues,” and the like, note Moody’s.

While ArenaCo does have a contractual obligation to pay debt service, it is a special-purpose company without recourse to any if its owners’ other companies or assets. Mikhail Prohkorov, Ratner’s equity partner, has agreed to keep the Nets themselves solvent, for example, but not to keep the arena solvent, according to Bond Buyer.
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On these senior bonds, Atlantic Yards is keeping debt way down. Raters have required a 40 percent equity component for this part of the deal.

This is important: It’s likely only because of this huge equity component that Atlantic Yards could attain even this low investment-grade rating.

Not so much of a must-read here. While Crain's reporter Theresa Agovino has been covering the Atlantic Yards story for some time, she seems to be struggling with the facts.

For one thing, while getting even the lowest investment-grade rating from Moody's, just a whisker above junk status, is a win for Ratner, it's not "the last major hurdle." Someone still has to buy those bonds, which is still not a sure thing.

And Ratner did not sell "80% of the Nets and 45% of the arena to the Russian mogul for $200 million earlier this year"  they reached an agreement on a deal, but that deal has yet to be consummated.

Lastly, Crain's fails to mention that a Baa3 rating is the lowest non-junk rating the bonds could have received  a not-so-ringing endorsement that the pro-Atlantic Yards Crain's chose to ignore.